The introduction of IFRS 2 in 2004 generated considerable debate about the best approach for handling ‘share-based payments’ (SBP). While it is clearly a cost to shareholders, which should be included in the statutory reporting lines through the P&L account, the question arose as to whetherit should be part of our underlying EBIT calculation.
When IFRS 2 was introduced, the size of SBP, usually related to long-term remuneration for directors, was small and insignificant compared with all other costs.
There is a large amount of information needed, including expected vesting, together with a number of assumptions, in order to calculate SBP. Given that neither the information nor the assumptions are disclosed, forecasting this ‘cost’ is almost impossible for an analyst.
In order to keep underlying EPS as a close proxy to the preferred valuation metric – operating cashflow per share (OCFPS) – SBP should not be included. SBP are added back into the cashflow statement because they are a noncash item.
Since the introduction of IFRS 2, SBP have become an increasingly larger proportion of operating costs, and shares are used as remuneration incentives for many more employees than just the directors.
In a global sector such as pharmaceuticals, SBP are widely used as employee incentives, particularly in the US. Therefore, to make direct comparisons between global peers, the accounting treatment needs to be the same. US companies routinely add back SBP for the calculation of their nonGAAP EPS because the payments are so large – thereby inflating EPS.